Hypothecation

A charge created on movable assets (machinery, vehicles, stock, receivables) as security for a loan, without transfer of possession to the lender. The borrower retains physical possession and use of the hypothecated assets. On default and classification as NPA, the secured creditor can enforce the hypothecation by taking possession and selling the assets under SARFAESI.

In practice, hypothecation is how banks secure movable business assets — stock-in-trade, machinery, vehicles, book debts — while leaving the borrower in possession to keep trading. The catch for the lender is that, unlike a pledge, there is no delivery of the goods, so on default the secured creditor cannot simply seize and sell; it must classify the account as NPA and route enforcement through Section 13 of the SARFAESI Act, 2002, taking possession of the hypothecated assets before sale. The practical risk is dissipation: a debtor in possession can sell or substitute stock, so the value of the security erodes between default and the day possession is actually taken. Counsel therefore push for early Section 13(2) notice and prompt possession, and scrutinise whether the deed of hypothecation, drawing power and stock statements actually match the assets on the ground. Lenders verify the security still exists in substance before launching enforcement.